Challenges in cross-border
supervision
Ian Tower
Workshop on Cross-Border Supervision and
Consolidated Supervision
June 2-4, 2015
Beirut, Lebanon
Objectives of this session
• To understand the main elements and key challenges of effective
cross-border supervision
• To cover:
– foreign bank business models and legal forms
– key expectations of home/host cooperation
– key challenges, including effective information exchange and
using Memoranda of Understanding (MoUs)
– the particular challenges of foreign bank branch supervision
as a host supervisor
2
2
Language and definitions
To avoid confusion….
• Group supervision – oversight of risks within group
• Consolidated supervision – assessment of total/aggregate
group position
• Conglomerate supervision – supervision of a group active in
more than one sector
• Cross-border supervision – supervision of a firm or group
operating in more than one jurisdiction (branch or subsidiary)
• Home and host supervision – roles in relation to cross-border
supervision
Cross-border Banking –
Understanding the Business Model
and Key Risks for Supervisors
4
Cross-border banks – what is the
business model?
• Domestic business:
– compete with domestic institutions for local retail customer business
– wholesale business (corporate lending, treasury and trading etc.)
• International business:
– services for foreign bank’s customers with business in host country
– services for local customers with foreign business
– transactions with wide range of customers, e.g., forex, trade finance
• Offshore business (i.e., no local customer or
counterparty) – sometime also acting as “booking
vehicle” for the foreign bank
• Traditional foreign bank business model in many markets
is domestic wholesale and international, but they also do
retail business in some countries
5
Foreign banks – legal form
• Subsidiaries of foreign banks – legally independent institutions subject to local company law
– wholly-owned or majority-owned by the foreign bank, which is
incorporated in a country different from that of its subsidiary
– separately capitalized
– depositor claims are on the subsidiary, not the foreign bank
• Branches of foreign banks – operating entities without separate legal status and which are
therefore integral parts of the foreign bank
– no capital of their own but, as part of the foreign bank, are backed by
its capital; may not produce separate audited accounts
– depositor claims are on the foreign bank itself
6
Why do banks sometimes prefer
branches?
• Increased efficiency, e.g:
– flexibility of capital & liquidity allocation to branches (as in home market)
– can be managed on business line basis
• Regulatory advantage, e.g.:
– may be lower capital requirements in home than host country
– absence of large exposures limitations; may also be tax advantages
• Lower risk:
– protection against economic/political risks (e.g., cannot so easily be ring-fenced by host
regulator), but branch also exposes whole bank’s capital
• Business model advantages:
– e.g., customers may prefer either to deal with foreign bank directly or with a local legal
entity; some foreign banks have both branch and subsidiary in some countries
7
Branches – significance varies by
jurisdiction
•
(from Bank of England, CP4/14, February 2014)
8
Foreign banks– how are they managed?
• There is a wide variety of approaches preferred by banks:
– local management, even for braches a “board of directors”
– on a “matrix” basis – local management but reporting to business line managers at foreign
bank
– managed by the foreign bank direct with little real local management (maybe a “country
officer”)
– outsourced entirely – “managed banks”
• Subsidiaries and (especially) branches are likely to rely on
(or outsource to) foreign parent for services, including
financial management
• Retail operations are often managed locally and usually
in a subsidiary
9
What can go wrong?
•
•
•
•
BCCI
Royal Bank of Scotland/ABN-AMRO
Dexia
Landsbanki/Icesave
10
What can go wrong: Landsbanki
Collapse of Landsbanki HF in October 2008: failure of
branch supervision model and deposit insurance in
EU/EEA single market
•
•
•
•
•
•
•
In UK a branch supervised by Icelandic authorities for capital, whole bank liquidity
UK FSA had limited powers relating to the supervision of local liquidity.
Bank raised retail internet deposits under the Icesave brand
Collected about £4.5 billion in retail deposits at time of failure
Deposits legally covered by the Icelandic deposit insurance scheme up to a value of €20,887
In addition, deposits were covered on a top-up basis by the UK Financial Services
Compensation Scheme (FSCS), to which Landsbanki had chosen to opt in.
As a top-up member, Landsbanki would have been liable to meet a share of the costs in the
event of the default of another bank covered by the UK scheme.
11
What can go wrong: Landsbanki (2)
Collapse of Landsbanki HF in October 2008
• Icelandic Government decides not to pay deposits for non-Icelandic
branches under the Icelandic deposit insurance scheme immediately
• Extended dispute about meeting these obligations by Iceland (referenda,
negotiations, formal proceedings against Iceland in EFTA Court)
• In addition, there were £800 million of retail deposits (above £ 50,000)
covered neither by the Icelandic scheme nor by the FSCS top up
12
What can go wrong: Landsbanki (3)
Collapse of Landsbanki HF in October 2008
•
•
•
•
UK government decided to protect these deposits to underpin depositor confidence
in the banking system.
More than 400,000 depositors with Icesave accounts in UK and NL unable to access
their money for at least 6 to 8 weeks
Total initial costs of retail depositor protection of UK branch met by UK government
and the FSCS.
LESSON: depositors in one country (or their government) vulnerable to the failure of
banks in another country if:
– the home country concerned lacks the supervisory resources to ensure bank
solvency, or/and
– the fiscal resources or willingness to fund bank rescue is low; and
– deposit insurance cover is unfunded
What could the UK FSA have done differently?
13
International Regulatory Standards on
Home-Host Supervision
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Principles of Home-Host Supervision
• All international banks should be supervised by a home country
authority that capably performs consolidated supervision
• The creation of a cross-border banking establishment should
receive the prior consent of both the host country and home
country authority
• Home country authorities should possess the right to gather
information from their cross-border banking establishments
• If the host country authority determines that any of these three
standards is not being met, it may impose restrictive measures
or prohibit the establishment of banking offices.
15
Basel Core Principles
• Principle 13 – Home-host relationships:
– “Home and host supervisors of cross-border banking
groups share information and cooperate for effective
supervision of the group and group entities, and effective
handling of crisis situations.
– Supervisors require the local operations of foreign banks to
be conducted to the same standards as those required of
domestic banks.”
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Basel on Home-Host cooperation
• The supervision of banks’ foreign establishments – Concordat (1975,
revised 1983):
– “The principle of consolidated supervision is that parent banks and parent
supervisory authorities monitor the risk exposure - including a perspective of
concentrations of risk and of the quality of assets - of the banks or banking
groups for which they are responsible, as well as the adequacy of their capital,
on the basis of the totality of their business wherever conducted.”
• Consolidated Supervision of Banks’ International Activities (1979)
• Principles for the supervision of banks’ foreign establishments (1983)
• Essential elements of a statement of cooperation between banking
supervisors (2001)
• Core Principles of Effective Banking Supervision (1997, 2006, 2012)
– Principles on Home-Host and Consolidated Supervision
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Basel on Home-Host cooperation (2)
• Home-host information sharing for effective Basel II implementation
(2006)
• Financial Stability Forum Principles for Cross-border Cooperation on
Crisis Management (2009)
• Good practice principles on supervisory colleges (2010, revised 2014)
• Report and Recommendations of the Cross‐border Bank Resolution
Group, Basel (2010) – but see also FSB Key Attributes of Effective
Resolution Regimes for Financial Institutions (revised version October
2014)
Joint Forum
• Principles on the supervision of financial conglomerates (2012)
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International standards: summary
Home supervisor
Host supervisor
Identification of groups/conglomerates
Joint
Forum/BCP12
Awareness and assessment of group risk
Functions as lead regulator or coordinator
Joint Forum
Recognises role of lead regulator
Licensing powers, including supervisability
Joint
Forum/BCP5
Licenses solo entity
Powers to regulate and supervise group
BCP 12 and 13
- including assessment of impediments
Regulation of solo entity
- cannot just rely on home supervisor
- equal treatment for domestic and
foreign banks
Capital, liquidity etc for groups
BCP 12
Capital, liquidity etc for solo
Capital, liquidity etc for conglomerates
Joint Forum/BCP
12
Capital, liquidity etc for solo
Supervisory cooperation
- includes chairing college(s)
BCP 13
Sharing and use of information
Participation in colleges meetings etc
Supervisory work on the group
- Includes visits to solo entities
BCP
Cooperation with home supervisors
- gives access to home, joint visits
Lead on group recovery and resolution
- and crisis management
FSB KAs
Aware of group plan. Solo plan
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Home/host supervisors: different
perspectives and potential for conflict
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Home/host different perspectives
Home and host may have different views on the significance
of the foreign operation (and of the parent) leading to
differing demands on each other.
Home country
Host country
Non-material operation Small, not
systemic
Material operation
Large, maybe
from group
systemic
perspective and
bank
systemic in Home
country
Non-material operation Large, maybe
from group
systemic
perspective
bank
Material operation
from group
perspective and
systemic in Home
country
Small, not
systemic
bank
Comment
Both Home and Host share a similar perspective – no material risk for
Home or Host country
Both Home and Host likely to have a similar view on the risk for Home
and Host banking system and their interests are aligned. Host
supervisor will want to cooperate with home closely.
Different perceptions from Home and Host supervisor perspective;
Home might underestimate challenge for Host, may prefer not to
devote resources to meeting host supervisor’s needs; a common
situation where major global banks operate in smaller or less
developed countries.
Different outcomes possible: home supervisor may be uninterested or
may want information and input as part of intensive supervision of its
systemic group
21
Home/host different perspectives
Three dimensions:
In relation to the foreign operation:
• Significance of foreign operation relative to parent/group
• Significance of foreign operation in host country
In relation to the home supervisor:
• Significance of the group in relation to the home
supervisor’s market and regulatory objectives
22
Home/host: possible conflicts
• Home supervisor:
– may want to conduct joint inspections in host jurisdiction when host has
other priorities
– may expect host supervisor to conduct inspections, when host supervisor
lacks resources to do so under risk-based approach
– may not share information with host in case of crisis affecting the bank (to
safeguard confidentiality)
• Host supervisor:
– may impose local financial or other requirements (e.g. governance)
inconsistent with home supervisor’s requirements on bank/group
– may expect the home supervisor to ensure support for host entity in case of
stress
– may take own measures (attempt to ring-fence) in case of stress, damaging
home supervisor's management of crisis
23
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Home/host conflicts - solutions
• Some tensions probably inevitable but home and host
supervisors are now expected to:
– exchange information with due regard for confidentiality
– cooperate on supervision of the bank/group
• …with the objective of delivering more effective, better
coordinated supervision of cross-border banks as well as
avoiding conflicts etc.
• Tools are available to help meet expectations, including
MoUs and colleges of supervisors
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Key Tools of Cross-Border Supervision:
Exchange of information/MoUs
Supervisory Colleges
Cooperation – Ongoing and in Crisis
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Exchange of information/MoUs
• Essential precondition of home/host cooperation
• Basel Core Principle 3 – Cooperation and collaboration:
“Laws, regulations or other arrangements provide a
framework for cooperation and collaboration with relevant
domestic authorities and foreign supervisors. These
arrangements reflect the need to protect confidential
information.”
• Two key questions:
– can you share your own confidential information without
onerous preconditions?
– can you protect other supervisors’ confidential information?
26
Exchange of information/MoUs
• Many countries have signed statements of cooperation
(also known as MoUs), covering:
–
–
–
–
sharing of information
onsite inspections
confidentiality of information
ongoing cooperation
• Statements are non-binding – i.e., they are statements of
intent to share; they cannot override bank secrecy laws,
which may need revision, if they constrain sharing with
other supervisors.
27
MoUs: Basel Principles
Basel Principles for establishing statements of cooperation for
the sharing of confidential supervisory information:
• Statements of cooperation are not necessarily legally
binding but act as a promise of intent
• Statements of cooperation represent a shared
understanding of a process by which information flows can
be enabled and cross-border supervisory cooperation can
be facilitated
• Statements of cooperation can be specifically tailored to
detail, for example, actions to be taken in crises or with
respect to supervision arrangements for specific firms
28
MoUs: Basel Principles (2)
• Supervisory statements of cooperation must meet
appropriate criteria for maintaining standards, protecting
confidential information and using supervisory resources
efficiently.
• These criteria include:
– Materiality: refers to the existence of expectation of reasonable
and/or sufficient cross-border business
– Equivalence: refers to one counterparty’s legal treatment of
information meeting confidentiality requirements equivalent to those
imposed in the other counterpart jurisdiction; and
– Reliability: refers to an assessment of the counterparty’s ability in
practice to protect and share information, such as judicial and political
credibility and regulatory track record
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Examples of sharing of information
• – Host
Home to host
• tAHost
toof control
Home
Change
Host to home
Change in local management
Parent/group downgrading
Local downgrading
Major capital-raising
Local capital issuance
Breach of minimum capital etc
Breach of minimum capital etc
Enforcement action
Enforcement action
Action to constrain exposure to
subsidiary
Action to ring-fence subsidiary
Change in strategy
Change in local business model
Change in business environment
and regulation
Change in local environment and
regulation
3030
Supervisory colleges – what are they?
(more in future session)
“Working groups of supervisors of the parent company and
key branches or subsidiaries of an international banking
group”
(Basel Committee, Good Practice Principles for Supervisory Colleges, June
2014)
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Supervisory Colleges (2)
• Mechanism for sharing information and coordinating
work
• Not decision-taking (except in Europe)
• Different formats, including:
– Universal college: all or most supervisors
– Core college: supervisors of largest elements of group
– Regional colleges: just supervisors from one region
• Risk of being bureaucratic/resource-intensive: needs
commitment and investment from home and host
supervisors.
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Home-Host ongoing cooperation
• Licencing of foreign subsidiaries and branches, mergers
and acquisitions etc.
• Ongoing supervision (taking account of significance of
operations):
–
–
–
–
ad hoc communication on key developments
input into group risk assessment etc.
joint working, e.g. onsite supervision
advance notice of sanctions etc.
33
Home-Host ongoing cooperation (2)
• Cooperation on Basel II implementation:
– assessment of advanced approaches, especially if
methodology is shared across the group
• Crisis management:
– Cooperation on crisis prepardeness
– more intensive exchange of information
– coordination of actions, including communication to the
market
34
Cross-border bank resolution
(more in future session)
• Each authority to act to achieve a cooperative solution
with foreign resolution authorities:
– as a minimum, they should consider the impact of their actions on
financial stability in other jurisdictions
– they should seek to minimize resolution costs in all jurisdictions &
creditor losses
• In the case of foreign bank branches:
– base scenario: host uses its powers to support a resolution carried out
by a foreign home authority
– in exceptional cases: host takes its own measures, but it should give
prior notification and consult the foreign home authority
• Host supervisors should give effect to foreign resolution
measures
35
Foreign Bank:
Branches and Subsidiaries
36
Foreign Bank Branches
• Branches of foreign banks:
– depending on legal framework, license may apply to whole foreign bank, but host
supervisor cannot supervise the whole bank in practice
– responsibility for prudential supervision (capital adequacy, good governance etc.)
therefore falls to the home supervisor for the whole bank
– limited host supervisor prudential supervision role, but branches may be subject to host
“endowment capital” and local governance etc. should be appropriate
– treatment in case of insolvency depends on host country regime; deposit insurance,
where available, usually under host country arrangements
• Role of host supervisor of branches is inevitably limited.
Some countries prefer foreign banks to operate only as
subsidiaries.
37
Foreign-owned Subsidiaries
• Subsidiaries of foreign banks:
– regulated and supervised by the host supervisor (local to the subsidiary) …
but also supervised on a consolidated basis by home supervisor (in the
country of the foreign bank itself)
– required to have local corporate governance, including board of directors,
risk functions, internal audit etc.; audited accounts
– subject to local insolvency and deposit insurance laws
• Subsidiaries of foreign banks can be regulated in largely the same way
as domestic banks (i.e., banks incorporated in the jurisdiction of the
supervisor and not owned by a foreign bank)
– but in addition the host supervisor must maintain contact and coordinate
supervision with the home regulator.
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Branches – the key issues for regulators
Potential advantages:
•
branch business supported by parent bank capital and other resources
– potentially higher transfer of expertise/commitment of credit?
•
banks cannot walk way from branch as from a subsidiary?
– but may be same reputational issues with failure of subsidiaries?
•
supervision responsibilities shared with home regulator
Potential disadvantages:
•
•
•
cannot apply same prudential standards, including governance (who is responsible
for management?)
dependence on strength of parent bank and effectiveness of home supervision
less host supervisory control/harder to resolve in case of failure
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9 key questions for branch supervisors
•
•
•
•
•
•
•
•
Why does the foreign bank want to operate as a branch?
What is the business model and risks arising?
Will the branch do retail (or other similarly economically sensitive) activities?
How significant will the branch be in relation to the parent bank?
Will the foreign bank’s resources be available to the branch in practice?
How will the branch operations be managed and by whom?
What access will I have to the responsible management in practice?
What happens to the branch if the foreign bank fails?
Maybe most important – what is the extent and quality of home
regulation and supervision and the nature of the relationship
that I can expect with the home supervisor (e.g., will I be
informed of problems?)
40
Options for the branch supervisor
• Spectrum of possible approaches, based on degree of
reliance on home supervisor:
• Most supervisors want mixed approach with scope to
vary according to the quality of the home regulation
41
Branches – developing a supervisory
approach
42
Branches – elements of an approach
Most approaches based on four key elements:
• limitations on scope of business of foreign bank branches (e.g., no retail)
• assessment of the home regulator; allow branches if:
– prudential regulation and supervision broadly equivalent
– likely to be an open, cooperative relationship
– clarity on implications for crisis management and resolution
• application of appropriate elements of the host supervisor’s own
regulatory and supervisory regime
• cooperation with home regulator (e.g., via a college of supervisors)
43
Branches – prudential requirements
• Application of appropriate elements of regulatory and
supervisory regime:
– local governance requirements – local management, local “board”?
– local liquidity requirements, especially in domestic currency (“standalone” basis) or reliance
on home supervisor based on whole bank liquidity
– local “endowment capital” (net assets, localization requirement etc.) depending on local
insolvency regime
– adequacy of systems and controls, management of local risks, IT and other operational
support, application of “three lines of defense”
– continuing supervision, including reporting and onsite work
– risk-based approach as for domestic banks
• Special measures if needed, e.g. limits on exposure to
foreign bank/home country
• Also local business conduct and AML/CFT regulation
44
Summary – Key Challenges in CrossBorder Supervision
45
Key challenge (1): understanding the risks
All supervisors involved in cross-border supervision need to
evaluate the risks arising from cross-border business
• Recognise that all such business has risk
• Do not just rely on others, e.g., home supervisor
• Incorporate risk in risk-based supervision program
46
Understanding risks: home supervisors
• Understand the group structure
• Ensure access to consolidated financial information
– no black holes
• Understand intra-group transactions and exposures (ITEs)
• Group management should account for group risk in all
countries
• Know the key foreign regulators, strengths and limitations
47
Understanding risks: host supervisors
• The place of the local operation in the group structure
• The financial position of whole group and risks to local
operation
• Relevant intra-group transactions and exposures (ITEs)
• How the local operation is managed in relation to the
group management structure
• Know the home (and other key foreign) regulators
48
Key challenge (2): Being an assertive
supervisor
All supervisors involved in cross-border supervision need to
satisfy themselves that risks are being managed and
mitigated
49
Being an assertive home supervisor
• Develop strategy of college/bilateral relations and crisis
management colleges and coordination
• Seek regular information from host supervisors
• Carry out on-site work in key jurisdictions
• Intervene to control the expansion of the bank, as
necessary
• Challenge on transparency/supervisability of group
structure and require change
50
Being an assertive host supervisor
• Develop strategy of college/bilateral relations and crisis
management college participation
• Seek regular information and supervisory assessments
from the home supervisor
• Use home supervisor for leverage on local issues
• Propose joint work and participate in home supervisor’s
on-site work - and seek reports
51
Key challenge (3): Crisis preparedness
All supervisors involved in cross-border supervision need to
make plans for their involvement in crisis management:
• Contact information and other practical prepardeness
• Adequate powers to take action and cooperate with other
supervisors
• Recovery and resolution plans that reflect the needs of home
and host supervisors
• Cooperation in practice
More in future session
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